Lower Demand Changes Everything For Oil Markets

  • IEA:  slowing demand growth and rising production from other major oil economies will help weather the effect of sanctions on Russia.
  • IEA revises demand growth figures for 2022.
  • Accelerating inflation could cool demand for petroleum products in 2022.

Two months ago, the International Energy Agency sounded an alarm about global crude oil supply, predicting that Western sanctions on Russia would remove as much as 3 million barrels daily from the global oil market. Now, it has changed its mind. In its latest Monthly Oil Market Report, the IEA said that slowing demand growth and rising production from other major oil economies will help weather the effect of the sanctions. In other words, it no longer expects that the market will swing into a deficit.

“Russia shut in nearly 1 mb/d in April, driving down world oil supply by 710 kb/d to 98.1 mb/d,” the IEA wrote in the latest monthly edition of its report. “Over time, steadily rising volumes from Middle East OPEC+ and the US along with a slowdown in demand growth is expected to fend off an acute supply deficit amid a worsening Russian supply disruption. Excluding Russia, output from the rest of the world is set to rise by 3.1 mb/d from May through December.”

Here, one needs to ask just how steadily volumes from the Middle East OPEC+ members are rising to get the real picture. The answer would be that they are indeed rising steadily among those members that have the capacity to do it. Saudi Arabia and the UAE come to mind first as the only ones with sizeable spare capacity, but both have made it clear they are in no rush to help offset lost Russian barrels.

In fact, the oil minister of the UAE said this week the world oil market was in balance, and the excessive price volatility was caused because “some don’t want to buy certain crudes and it takes time for traders to move from one market to another.”

“The idea of trying to boycott certain crude is going to be risky regardless of the motives behind that,” Suhail Al-Mazrouei also said.

The slowdown in demand will certainly help weather the effects of this boycott, as the IEA points out in its report. According to the agency, the growth of global demand for crude is seen slowing down to 1.9 million bpd during the current quarter from as much as 4.4 million in the first quarter of the year because of inflationary pressures and, of course, higher oil prices. In the second half of the year, this growth rate is seen by the IEA dropping sharply to just 490,000 bpd.

If that does happen, such a slowdown would be a great help in offsetting any lost Russian production. But that would likely depend on the lockdowns in China, which are being cited by analysts as the main reason for oil demand growth revisions at the moment.

As for rising oil production in the United States, that has run into problems, according to the Energy Information Administration’s latest weekly petroleum status report. In addition to large drillers’ cautious approach to production growth, now higher input prices are interfering with production growth plans, with U.S. oil output declining by 100,000 bpd last week to 11.8 million bpd.

The figure supports the EIA’s earlier forecast about production trends this year and next, which is now seen lower in terms of growth than previously expected because of raw material and equipment inflation, in part driven by shortages of everything from workers to frac sand.

Brazil, another large world producer, has meanwhile declared it would not be able to boost production quickly enough to cover any gap left by sanctioned Russian barrels. Reuters reported earlier this week that U.S. officials had held talks with Brazil’s Petrobras with a focus on boosting production to offset the loss of Russian crude.

However, they left empty-handed, with the Brazilian company’s officials explaining to their guests that oil production was the result of a longer-term business strategy, not diplomacy, and that a short-term increase in output would not be possible from a logistics point of view.

In this production context, the only hope for a market balance is on the demand side. Currently, forecasts are for accelerating inflation that should temper demand for crude, with the International Monetary Fund revising its economic growth predictions sharply down for both this year and next.

“Inflation has become a clear and present danger for many countries,” the IMF wrote in an April update. “Even prior to the war, it surged on the back of soaring commodity prices and supply-demand imbalances. War-related disruptions amplify those pressures. We now project inflation will remain elevated for much longer.”

It seems that inflation could be the only thing to temper oil prices given that production growth is not going according to expectations anywhere, with a lot of OPEC members struggling with their quotas, ultimately delaying the moment when combined OPEC production would return to pre-pandemic levels.

Russia’s production, meanwhile, is stabilizing, according to Deputy Prime Minister and former top energy man, Alexander Novak. After slipping to 10.05 million bpd in April, production had inched up by 2 percent, Novak said earlier this week. That would be one more bearish factor for oil, along with the demand projections of the IEA and other forecasters.